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The Pricing of Jump Propagation: Evidence from Spot and Options Markets

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  • Du Du

    (Department of Economics and Finance, City University of Hong Kong, Kowloon Tong, Hong Kong)

  • Dan Luo

    (School of Finance, Shanghai University of Finance and Economics, and Shanghai Key Laboratory of Financial Information Technology, Shanghai 200433, China)

Abstract

This paper examines the joint time series of the S&P 500 index and its options with a two-factor Hawkes jump-diffusion model that captures jump propagation (i.e., the phenomenon in which the strike of one jump substantially raises the probability for more to follow). The propagation effect uncovered from the joint data is severe but short lived. On average, this component takes up more than two-thirds of the total jump risks. Our jump specification proves crucial not only in reconciling the dynamics implied from the joint data, but also in explaining the time series of option-implied volatility skew. The online appendix is available at https://doi.org/10.1287/mnsc.2017.2885 .

Suggested Citation

  • Du Du & Dan Luo, 2019. "The Pricing of Jump Propagation: Evidence from Spot and Options Markets," Management Science, INFORMS, vol. 67(5), pages 2360-2387, May.
  • Handle: RePEc:inm:ormnsc:v:65:y:2019:i:5:p:2360-2387
    DOI: 10.1287/mnsc.2017.2885
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    6. Michael C. Fu & Bingqing Li & Rongwen Wu & Tianqi Zhang, 2020. "Option Pricing Under a Discrete-Time Markov Switching Stochastic Volatility with Co-Jump Model," Papers 2006.15054, arXiv.org.
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